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As consumers of Teavana's (TEA) ("Teavana", or the "Company") high-priced loose leafed teas, we decided to investigate the Company's claims that its teas are pesticide free, so we sent some of Teavana's most popular teas to an accredited and independent lab for testing.

On November 20, 2012, we released our findings (available on our website here and on Seeking Alpha here) in which we opined that independent laboratory tests showed that Teavana's teas contain pesticides in amounts that exceed US and EU regulatory limits.

We surmised that Teavana also deceived Starbucks (NASDAQ:SBUX), its prospective acquirer, regarding the quality of its teas and that Starbucks would therefore likely walk away from the deal. In this follow up report, we provide further analysis on the Company (and its response to our opinion piece) and include a detailed description of our testing methodology in the hope that investors and consumers will perform their own pesticide tests on Teavana's teas.

Built To Last?

Teavana's brand is built on the perception that Teavana's teas are healthier than other teas because they are pesticide free. We placed 80 phone calls to Teavana retail stores in 19 states and to its toll free customer support line inquiring about the health qualities of the Company's teas. In 98% of the phone calls we placed, Teavana's salespersons declared without qualification that the Company's teas were pesticide free. In addition, the majority (55%) of the Teavana's salespersons we called also stated that all of the Company's teas were either certified USDA or European organic. Watch our video (available here) for recordings of some of the phone calls.

Contrary to the Company's claims, 100% of the tea samples contained pesticides, many of which are classified by the EPA as Possible Human Carcinogens. One of Teavana's most popular and expensive teas, Monkey Picked Oolong, was the most contaminated with 23 pesticides.

After we published our short thesis on Teavana, the Company issued a weak refutation and took a number of "defensive" actions that, in our view, strongly support the accuracy of our opinions.

1. Lawyers before Customers

Shortly after publication of our report, Teavana issued a press release (available here) more notable for what the Company did not say. In the following chart, we compare what the Company said in its press release to the questions that it should have answered in order to truly refute our report.

(click to enlarge)

Teavana's press release clearly implies that its teas meet EU pesticide standards. Yet 77% of the pure teas we tested failed such EU tests. Teavana salespeople continue to tell customers that its teas meet EU standards, meaning that in our opinion material misrepresentations continue to occur at the point of sale.

Teavana has also failed to address another significant finding: that its teas contain pesticides for which no tolerance level has been established by the EPA, meaning such teas are technically 'adulterated' under FDA regulations. US law prohibits businesses from selling adulterated food products. By knowingly selling adulterated teas, Teavana and its officers and directors risk civil and criminal liability.

Teavana could put this controversy behind them if the Company stated simply that held to its previous claim that its teas do not contain pesticides and released the test results for the products that we sampled. Instead, the Company seemed to shift responsibility for testing its products to third parties and issued a lawyerly and evasive statement even though the Company owes it to every customer who purchased its products to be forthright and honest about the pesticide content of its teas.

2. New Sales Pitch

Since our report released one week ago, Teavana appears to have changed its sales pitch to customers, suggesting that our findings were dead on and that Starbucks should consider the Company's growth trajectory based on Teavana's new brand image.

First, Teavana appears to be distancing itself from any claims that its teas are organic. Teavana removed the FAQ from its website entitled "what is the process for making Organic Teas." Before we made our findings publicly available, Teavana's website contained the following disclosure, which we captured in Google cache (available here):

What is the process for making Organic teas?

Organic tea is grown according to standards set by certified organic programs. Farmers produce their crops without using most conventional pesticides, fertilizers made with synthetic ingredients, bioengineering, or ionizing radiation. Farmers emphasize the conservation of soil and water to enhance environmental quality for future generations.

We believe it is significant that the Company took down this section of its website, given that the majority of sales representatives that we called misrepresented to us that all of Teavana's teas were either USDA or EU organic.

Second, Teavana has apparently encouraged its salespeople to change their pitch on pesticides in the Company's products. We called and visited a few Teavana locations over Black Friday weekend to hear whether the Company's sales tactics have changed. Indeed they have. While several Teavana sales representatives now admit that while the Company's teas contain trace amounts of pesticides, they do not believe that such pesticides are used directly on the tea leaves.

Rather, two Teavana salespeople suggested that the pesticides could originate from the ground water, the rain or even the dirty hands of agricultural workers picking the tea leaves. This explanation sounds laughably stupid. Would customers be happier that a tea contains traces of 23 pesticides because agricultural workers in China did not wash their hands before picking the tea? That sounds disgusting.

We believe that the Company's new sales pitch perfectly illustrates the difficulties that Teavana will have going forward. Teavana teas are 368% as expensive per ounce as Starbucks Tazo tea, even though our tests showed the Tazo teas to contain far fewer pesticides and appear to be much closer to EU compliance. Historically, Teavana has enticed customers to pay a premium price for loose leaf tea by telling customers, including our research director, that its teas are pesticide free, EU pesticide compliant and organic.

We believe that the Company will struggle to convince its customers to pay a premium price for teas are not pesticide free and that are not organic. It is a much less attractive sales pitch to admit that the Company's product contains pesticides but that the pesticides only come from the dirty hands of agricultural workers or the contaminated the fields in which the tea was grown. This misses the point: customers do not care where the pesticides come from, they only care that the tea contains pesticides. Otherwise, customers might as well flock to a cheaper substitute that is conveniently located in a supermarket.

The alternative is that Teavana completely revamps its supply chain and only sources teas that are truly pesticide free. The problem with that strategy is that cost of goods sold will increase dramatically, which can only hurt Teavana's unit economics (a feature of the business Starbucks found particularly attractive).

The math is simple: the more Teavana sells, the more tea it must buy. The more tea Teavana must buy, the more likely the Company will have to source from second-rate growers who cut corners or worse, shower tea leaves in pesticides. We think the foundation of the Company's brand will serve as a straight jacket on growth. Teavana sold its growth story on its ability to source high quality pesticide free teas and sell them at a premium price -- the larger it grows, the harder it gets to meet the Company's sourcing requirements with premium growers, enticing the Company to source tea from growers with lower standards. But as soon as customers realize they are paying a premium price for tea containing pesticides in excess of EU and US regulatory limits, the brand will suffer and sales will plummet.

Do Your Homework!

But we do not want investors to merely take our word for it. We encourage any investor with a significant stake (either long or short) in Teavana to test the Company's teas. Since we published our report, some of the largest hedge funds in the world contacted us to get up to speed on pesticide testing. Therefore, in this follow-up piece, we will outline our methodology with respect to laboratory testing so that investors can determine for themselves whether Teavana has been telling the truth about pesticides in its teas. Such tests cost a few thousand dollars and can be completed in as little as forty-eight hours.

Lab Selection

We were amused to read on blogs reporting our findings that certain consumers had purchased home pesticide testing kits on Amazon.com in order to measure the pesticide content of Teavana's teas. Although we cannot comment on the accuracy or sensitivity of do-it-yourself testing kits, we encourage investors to pay for quality and reliability.

We selected an ISO/IEC 17025 accredited and independent laboratory lab in Germany which is the world leader in food, pharmacological and environmental laboratory testing. While its not necessary to go to the best, at a minimum investors should ensure that they test the teas at an ISO/IEC 17025 accredited lab and that such lab is sufficiently familiar with EU and US regulatory requirements to determine whether the teas meet both jurisdictions' pesticide standards. Although we chose to keep the identity of the lab that we used confidential, we have included copies of the lab reports at the back of our original report.

We sent our samples to an accredited lab in Germany for testing because Teavana claims its teas are tested to European standards. We also encourage any investor testing Teavana's teas to send the samples to a European lab for testing (or the European branch of an accredited American lab), because a European lab is the most familiar with the European Union pesticide import standards (EC 396/2005) for dry teas. However, an accredited U.S. lab could quickly determine for Teavana investors that its products are adulterated by U.S. regulatory standards.

Sample Selection

We tested thirteen pure teas because pure teas contained sufficient concentration of tea leaves to obtain a statistically significant measurement. We also tested two blended teas, Samurai Chai M/WAC and Youthberry, but such tests came back inconclusive because the tea leaves were blended with too many fruits, flowers and herbs to actually measure the pesticide content of the tea leaves. In order to test the quality of the tea, we therefore focused on un-blended pure teas and encourage investors to do the same.

Below is a list of the teas we tested and the results we obtained.

(click to enlarge)

Test Selection

We commissioned a comprehensive test for over 400 pesticides. Although different labs test for different numbers of pesticides, we encourage investors to commission the broadest pesticide screen available. Our total cost of a comprehensive pesticide test for one tea sample was Euro 325. For some of our samples, we tested the teas for the presence of heavy metals, which costs an additional Euro 120 per sample.

Chain of Custody

We purchased six to eight ounces of thirteen different pure teas, which cost roughly $1,000, from three retail stores (NY, IL and CA), including the very same store on Lexington Avenue in Manhattan that impressed Starbucks CEO and Chairman Howard Schultz.

At no time did we take possession of any of the samples. Instead, we pointed to the teas we wanted and had the stores pack and ship the samples in sealed store-bought metal cans directly to an ISO/IEC 17025 accredited and independent laboratory for testing.

It is important to note that at no time did our investigators touch or handle the tea samples. Rather, our buyers went to the stores and watched as Teavana employees scooped the loose-leaf tea into airtight storage tins provided by the store employee. Teavana employees then placed all the samples in a box, which was picked up by UPS directly from the store, which can be scheduled by any person/institution that has a UPS account set up at ups.com. At no point did any of our buyers leave the store with the tea or handle the tea in any way.

Analyzing the Results

Investors should ask the lab to determine whether the samples meet EU and US regulatory standards.

European Union

The EU prescribes limits for pesticide residues under European Commission regulation 396/2005. Readers can check the EU limits for dried tea leaves through the EU pesticide limit database, available online here. If pesticides are present in levels above such standards, such tea is banned from sale to consumers in the EU. Our lab was able to determine that contrary to Teavana's representations in its SEC filings, 77% of the tea samples failed the European Union pesticide import standards (EC 396/2005) for dry teas.

United States

By law, the EPA is responsible for establishing 'tolerances' (i.e. maximum safe limits) for each pesticide based on the potential risk to human health posed by the chemical. The FDA enforces such tolerances for non-poultry/beef products such as tea to ensure that the nation's food supply is maintained safely at all times.

Under Section 402, Title 342(a)(2)(NYSE:B) and Section 406, Title 346(a)(1) of the Food, Drug and Cosmetic Act ("FDCA"), a processed food or feed is considered to be adulterated and subject to FDA enforcement action if it contains pesticide residue for which there is no tolerance, tolerance exemption, or food additive regulation.

On the following page, we have included a chart of our test results listing the thirty-seven pesticides that our lab found in Teavana's teas for which no tolerance has been established. Among the teas we sampled, the lab found no fewer than 121 violations of U.S. standards. As a point of reference, we have indicated where such adulterants were found in amounts exceeding the limits prescribed by the European Union.

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We encourage customers and investors with a significant stake in Teavana (either long or short) to perform their own tests on the Company's products.

Teavana's brand is built on the misperception that its teas are healthy because they are pesticide free. This allows the Company to charge customers above-average prices for tea (368% above our Starbucks Tazo tea samples). We believe that as soon as customers discover that they are paying premium prices for pesticide-laden teas, Teavana's brand will be tarnished and its sales will plummet.

We were naively happy customers of Teavana for two years. During that time we paid substantially more money because we were told the teas were pesticide free and/or organic. We will never go back. And we suspect that we are not alone.

THIS RESEARCH REPORT EXPRESSES SOLELY OUR OPINIONS. Use Glaucus Research Group California, LLC's research opinions at your own risk. You should do your own research and due diligence before making any investment decision with respect to securities covered herein. We are short Teavana and therefore stand to realize significant gains in the event that the price of stock declines. We do not express any opinion as to whether any of the food products discussed herein are safe for human consumption. Laboratory test results are presented as is, without any warranty of any kind (whether express or implied) and are not intended to form the basis for any scientific conclusions or any claims regarding the health effects of the tested products. Please refer to our full disclaimer at the end of our report (available on our website by clicking here)

Source: Don't Believe Us? Test The Teas Yourself

Additional disclosure: Please read Glaucus Research Group California LLC's full disclaimer at the beginning of our report (also available at glaucusresearch.com), which we hereby incorporate by reference in full.